Chart of the Week: Financial Reform Report Card
By Tobias Adrian, Dirk Jan Grolleman, and Anastasiia Morozova
October 29, 2018
The many 10th anniversary retrospectives of the global financial crisis mostly agree: the financial system is safer today than it was when US investment bank Lehman Brothers collapsed in 2008. In some respects, the IMF’s recent Global Financial Stability Report supports that conclusion. Capital, liquidity, and banking sector leverage have improved.
But policymakers shouldn’t rest on their laurels. The Chart of the Week offers a more granular look at the progress (or lack of it) on banking sector regulation and supervision since the crisis on a number of dimensions. It finds that while there has been improvement in many areas, significant trouble spots remain. (The chart focuses on banking, but similar issues arise in our assessment of securities and insurance regulation and supervision.)
Policymakers shouldn’t rest on their laurels.
Across the financial sector, two of the most problematic areas are corporate governance and regulatory oversight. Before the crisis, weak corporate governance gave rise to risky exposures, often driven by flawed incentives that rewarded quick profits. What is more, many supervisors lacked the independence, accountability, resources, and legal protections they needed to properly oversee financial institutions. Those weaknesses have yet to be fixed.
While progress varies by country, the chart shows average compliance levels over time for 37 nations. It is based on assessments of banking regulation and supervision frameworks between 2013 and 2017. The left hand column shows average compliance levels from 2013 to the first half 2014; the right-hand column shows levels from the second half of 2014 to 2017. The two periods of time, though different, encompass roughly equal numbers of assessments.
Levels vary from high compliance (green) to low compliance (red) for each of the 29 Core Principles for Effective Banking Supervision established by the Basel Committee for Banking Supervision, the global standard setter for the regulation of banks.
Among the other areas of weakness:
- Transactions with related parties, such as shareholders, subsidiaries and other group companies
- Operational risk, or breakdowns in internal procedures and systems, including defenses against cyber risk
- Abuse of financial services, or making sure banks aren’t being used for money laundering or other criminal activities
- Supervisory approach, or developing a forward-looking risk assessment of banks’ risk profile and effective approaches to early intervention and resolution
- Risk management process to identify, evaluate, monitor, and control risks.
The compliance assessments are drawn from the Financial Stability Assessment Program, conducted jointly by the Fund and the World Bank. Its goal is twofold: to gauge the stability and soundness of a country’s financial sector and to assess its potential contribution to growth and development. More than three-quarters of the Fund’s 189 members have undergone assessments.
More analytical work on compliance assessments of the Basel Committee’s core principles will follow. For now, the key take-away is that while progress on the global regulatory reform agenda has been impressive, more work is needed to ensure the stability of the financial system. This is no time for complacency.